Diagnostic Review of Consumer Protection in Financial Services (стр. 5 )

Key Facts Statements should be developed for all basic retail financial services. This would include retail insurance policies, private pension funds and collective investment funds. The Key Facts Statement should lay out the key terms and conditions, including fees and charges, for all types of retail financial services.

Quick loans should also have improved disclosure. A large proportion of the household loans are "quick loans" whereby loans are made through banks located in shopping centers. Such quick loans are ready for disbursement within one hour but little documentation is provided to the borrower.

Consumer disclosure for non-credit payment services could also be improved. The experience since 2005 has shown that the large payment services maintain a high level of consumer panies such as Qiwi provide a copy of the contract available at the terminal (as well as on the company’s website) and disclose the relevant fees before transactions are completed. However not all companies are required to do so. The draft legislation on the national payments system would require that all payment service operators provide information to retail consumers before they purchase services. Such information would be accessible to the consumer at any time and would be presented in simple and easy-to-understand language. In addition, the newly formed National Association of Electronic Commerce Participants (NAUET) should prepare a standardized format for the presentation of key information for consumers.

Detailed regulations on advertising by investment brokers, asset managers and insurers would be helpful. The Law on Advertising provides legal responsibilities for financial institutions and intermediaries when they are advertising or soliciting for sales. In particular, Article 28 stipulates that advertising of banking services should not conceal other conditions involved in the provision of such services. However the provisions of this law are general in nature and could be improved to give more specific guidance, especially to investment brokers and collective investment undertakings. Also for insurance services, it is not clear if the Law on Advertising covers benefit illustrations. Benefit calculations allow consumers to estimate their future payments from insurance contracts. However benefit illustrations under life contracts, if permitted, should be capped according to realistic future earnings prospects (e. g. using a proportion of the benchmark bond rate). In addition, the legal provisions on insurance should be amended in order to cover the obligations of insurers regarding sales and promotional materials and the way in which such materials should be presented. Insurers should be responsible for undertakings provided in official sales materials.

Supervision of advertising in the securities market should also be supervised by FFMS. FAS is responsible for enforcing this law by monitoring advertising practices and ensuring that financial institutions do not engage in deceptive or misleading advertising. However for asset management companies, the Law on Investment Funds/Trusts creates additional legal responsibilities regarding advertising and marketing. Responsibility for the implementation and enforcement of advertising and marketing rules for the securities market should be supervised not just by the FAS but also by the FFMS.

Specific rules on disclosure and account handling for insurance customers should be issued. The Insurance Law should specify that traditional life insurance savings contract policyholders will receive statements of value at least annually (possibly after the first two years). Non-life insurance policy wordings should be set by the professional association (and recommended for all association members) and any variation should be formally disclosed through an attached derogation statement. Policies for retail customers should not permit denial of a claim or arbitrary cancellation of an insurance contract for reasons other than material non-disclosure and other rules already in the Civil Code. A claim should not be deniable after it has occurred if the cause of the claim was unrelated to a non-disclosed risk factor, although a premium adjustment may be justified. Regulations should also require the use of separate bank accounts for policyholder funds while they are being held by intermediaries, and the establishment of appropriate audit trails. In addition, if brokers accept commission from insurers, they should disclose both the practice and the amount or structure of the commission to the policyholder. Insurance agents should have some liability for the policies they sell. The insurance company is ultimately responsible for the actions of its agents but should be able to seek restitution from the agent for the consequences of any misrepresentation and malfeasance by the agent.

There should be specific disclosure requirements for non-state pension funds. The Law on Non-State Pensions includes broad disclosure rules that a fund must adopt. However for both mandatory and voluntary pension programs, consumers have difficulty comparing offers by privately-managed non-state pension funds (NPFs) and asset management companies (AMCs). A wide range of different practices have emerged in this area, many of which remain opaque to plan members, being a major source of complaints. There should also be specific disclosure rules to cover point-of-sale practices for retail sales of voluntary pensions. Disclosure rules on annuities provided by non-state pension funds are also needed. The nature of annuities should be disclosed to members at the time they enter the fund. Ideally annuities would be provided by specialized insurers or by the solidarity fund of the Pension Fund of the Russian Federation, and the range of options should be small and transparent.

Consumer disclosure on the payout of annuities is needed as soon as possible. Under the voluntary pension plan, participants are to receive annuity payments from either the life insurance plan or the NPF defined-benefit plan, established by the employer. Although the payments are scheduled to start in 2013, no clear disclosure is available to allow participants to plan their financial futures. A still more fundamental issue is that male mortality rates in Russia have been changing in recent years (and in some cases, becoming more volatile). As a result, insurance companies and NPFs have difficulty in determining future annuity payment streams. As the supervisory agency, the FFMS should undertake the studies necessary to establish mortality tables for the industry. The FFMS should also put in place clear rules on disclosure of estimated benefits for plan participants.

A professional association for credit bureaus, if created, should develop an information brochure for consumers. Some credit bureaus and credit institutions publish information for consumers regarding their rights regarding the credit reporting system. In addition, the CBR maintains a section on the Central Catalogue of Credit Histories, which also contains instructions on how consumers can obtain access to their credit information. This is very useful but more could be done. At the point of purchase of a financial service, consumers should receive an easy-to-read key information brochure. This brochure would explain the basics of a credit report, credit score and the credit reporting system, and indicate sources of information, where the consumer can access his or her credit report, and how to resolve complaints.

Consumers should have access to all databases in the private sector that store information on them. This is necessary to allow consumers to check and review their personal information upon proper identification: no secret databases should be used in the process of credit evaluation. In addition, once credit scoring is fully operational, consumers should have the right to see the latest calculated score, the range of scores possible, the average score of the population and the four main factors that impact on the score. This would allow consumers to learn how they could improve their score. In addition, self-inquiries, credit inquiries at lenders, and initiated disputes should be not be scored so as to avoid negatively affect the credit score

Improvements could be made in the practices related to sharing of personal information with third parties. The Law on Credit Histories requires that banks provide a general "consent clause" to the consumer. Some banks explain to consumers that they may contact the Central Catalogue of Credit Histories to locate their credit reports. However lenders are not obliged to provide detailed information to consumers. The proposed association of credit bureaus could play a valuable role, developing standardized model clauses on information sharing to be used by association members and improving the clarity of consumer disclosure where information is shared with third parties. In the securities market, regulations should specifically require market participants to inform investors of the sharing of their personal information and allow investors to opt out of information sharing.

An information campaign would help consumers learn about their legal rights on protection of personal data. In Russia, consumers are not generally aware of their rights to maintain privacy of personal information. Although the Law on Personal Data will not be effective until 2010, the data protection authority should consider preparation of an extensive nation-wide information campaign, designed to inform consumers about their rights to keep private their personal data.

Business Practices

Unfair sales practices should be specifically prohibited. In addition to placing restrictions on plastic card distribution, other high-pressure sales tactics should be discouraged. The “Do Not Call” system of online registration in the US provides an effective method of reducing marketing calls made to the residences of consumers. Those who provide financial services should also be obliged to ask enough questions to help the consumer decide if a particular financial service meets his or her financial needs and goals. In addition, over time consideration should be given to consumer protection issues related to commerce conducted by mobile telephones, including issues on small size of screen for disclosure and concerns over targeting of minors in the sale of services.[25]

Close watch should also be made of collection practices to ensure that they are not abusive. The Civil Code provides protection for consumers that they cannot be evicted from their homes without substitute housing being made available. However abuse of “administrative resources” such as courts and police cannot be ruled out and should be monitored by consumer protection advocates such as NGOs. There should also be a legal framework for the operation of debt collection agencies that requires, among other things: (1) the licensing and oversight of all properly registered collection agencies by an appropriate regulatory authority, (2) the provision of services on the basis of generally accepted fair and reasonable principles of conduct and (3) the provision of statistics by each licensed agency to the regulatory authority on a regular basis for public dissemination. The principles of conduct for debt collectors should include restrictions on the times of day that the debt collectors can contact consumers and prohibitions against other abusive debt collection practices.

Also needed is a law on personal bankruptcy. A draft federal law has been prepared by the Ministry for Economic Development of the Russian Federation on amending the legislation related to rehabilitation procedures for personal bankruptcies. However until a regime for personal insolvencies is operational, a delinquent debtor may still be vulnerable to undue pressure from debt collectors. Thus, it is essential that legislation on personal bankruptcy be enacted. This law would also encourage negotiated settlements between banks and their customers and allow for the re-scheduling of individual debt as part of those settlements.

Cooling-off periods should be set for all consumer financial contracts except securities and investment funds. Cooling-off periods provide an effective method of protecting consumers from high-pressure sales tactics, such as doorstep selling of consumer loans. The cooling-off period provides consumers the opportunity to study their loan agreements and make a final decision. During this period, the service provider is not permitted to change the terms of the agreement, without the approval of the customer. Following the approach of the EU Consumer Credit Directive approved in April 2008, the Russian draft consumer credit law establishes a 14-day cooling-off period, during which the consumer can change his or her mind and cancel the contract without conditions.[26] The 14-day cooling-off provision is an important form of protection for consumer loans, but it should also apply to all contracts for financial services, except securities and investment funds. (For traded securities and funds, rapid changes in market prices make unworkable any form of cooling-off period.) In particular, a cooling-off period should apply to contracts with a long-term component, such as housing and mortgage loans. Cooling-off periods are also important for any service that has a large savings component. Approval of the consumer credit legislation will be helpful in regulating the consumer credit sector and ensuring a transparent consumer credit market. A cooling-off period provision should also be introduced for long-term life insurance savings contracts and for voluntary individual pensions.

Financial institutions should be prohibited from granting unsolicited credit to consumers. Credit card lending is particularly vulnerable to abuse. In several markets worldwide, pre-cleared credit cards are distributed to consumers who did not request the cards. Activation of the card requires only a telephone call from the card-holder. Especially among unsophisticated consumers, card-holders may not realize that when they use their card, they incur a personal debt that must be repaid—and with accumulating interest. Distribution by mail of pre-cleared credit cards may also make consumers vulnerable to identity theft, where the letters delivering credit cards are opened by unauthorized parties. Several EU countries have taken measures to discourage distribution of unsolicited credit cards. In Romania, consumers must place a telephone call to request a credit card. In Ireland, distribution of unsolicited plastic cards is prohibited. Furthermore the financial institutions issuing credit cards should be responsible whenever fraud has occurred using plastic cards (either credit or debit cards).

Tied selling of financial services should also be discouraged. As seen in many rapidly expanding financial markets, as consumer credit becomes an increasingly competitive sector, financial institutions look to be creative to appear competitive while maintaining high profit margins. One method is to require that contracts for certain financial services, such as insurance, be obtained in order for the borrower to receive a loan. Other tied services might include account handling and maintenance or safekeeping for collateral, where the lending institution requires that the borrower obtain such services—and that the services must be purchased from an institution affiliated with the lender. Such arrangements open the opportunity for lenders to conceal the true cost of the loan since the lending profits may be concealed in higher-than-market prices for the related services. Currently, the Consumer Protection Law bars tied sales and involuntary cross-selling (Article 16). However, regulations should clarify that, if a specific financial service must be purchased in order to obtain another service, the consumer has the right to choose the supplier of the related financial service. Bundling falls under Article 16 of the Consumer Protection Law and Article 13 of the Law on Competition restricts the ability of financial institutions from making such agreements. However this is not sufficient.

Bundling of financial services should be explicitly discouraged. Whenever a borrower is obliged by a bank to purchase any financial service, including an insurance policy, as a pre-condition for receiving a loan from the bank, the borrower should be free to choose the provider of the service. From a competition point of view, service bundling (also known as tying) in retail banking may weaken competition. Firstly, tying raises costs and therefore is likely to reduce customer mobility. Secondly, by binding customers into buying several services from the same bank, tying is likely to discourage the entry of new players and growth of smaller players. Thirdly, by introducing additional and perhaps unnecessary services into the transaction, tying reduces price transparency and comparability among providers.

A frequent case of bundling in Russia is the requirement for borrowers to sign an insurance policy before receiving a bank credit. Such insurance might cover whole life policies or disability policies. This practice is used by many banks that: (1) set their own requirements as to insurance company qualifications and insurance coverage needed for consumer credits, (2) provide borrowers with lists of approved insurance companies that meets the banks’ “stringent” requirements, (3) ensure that the only insurance companies on the bank’s list are affiliated with the bank, and (4) do not inform the borrowers of these facts. In the case of auto loans, some banks have offered zero-interest loans but only if the borrower accepts an inflated insurance premium from a company affiliated to the bank. The contract agreement generally includes a provision that states that all insurance claims will be denied in the event that the consumer is found in any way responsible for an accident.

Legislation should regulate the practice of bundling financial services. Bundling should only be permissible by law if: (1) the consumer receives prior notice of the bundling in writing along with clear statements regarding the cost and nature of bundling, as well as what specifically is and is not covered; and (2) then the consumer agrees in writing to waive his or her right to proceed with the unbundled services.

Professional associations should develop codes of business practice for their respective parts of the financial sector. The two banking associations (Association of Russian Banks and Association of Regional Banks of Russia) are in the process of preparing codes of business practice, which would be combined if the two associations were to merge. (The Association of Russian Banks already has a code of ethics applicable for their member banks.) The professional associations for insurance, asset management, pensions and other parts of the financial sector should also draft codes of business practice for their respective areas. Once the codes have been approved by each of the associations, they should ask their members to endorse the code and make it part of their internal regulations, and publicize them to the general public through appropriate means. At the time of on-site supervision, the supervisory agencies could review if the institution was following its own internal regulation regarding the code of business practice. Where the institutions were failing to do so, the supervisory agency could make recommendations on ways in which the institution could improve. While such recommendations would not be binding for the financial institution, credit organizations looking for ways to improve their business practices would likely welcome such recommendations and implement them voluntarily. The codes should also provide for mechanisms for consumers to complain about non-compliance with the codes to the professional association, which should also establish sanctions for misconduct or violations of the code.

Codes of business practice should focus on minimum procedures needed to ensure fair and transparent relations with retail customers. Codes of practice address many internal issues for financial institutions but they should also highlight their rules on customer relations. This would address issues such as the number of days which the institution could take to respond to a routine customer complaint, the process for following up on complaints submitted to the institution, and the length of time for maintaining customer records. The codes should also ensure that representatives of financial institutions asked enough questions to ensure that the service being sold was suitable for the purchaser. Codes of practice are also important in light of the unclear definitions of “unfair practices” that are part of current legislation. While codes of practice are not mandatory—and thus cannot be fully enforced—they set an ethical tone for each financial institution and help to improve common business practices in the financial sector.

Suitability requirements are particularly important for the securities sector. One of the most important vehicles for consumer protection in the securities market is the requirement that a broker or collective investment undertaking advise a client as to the suitability of an investment for the client. This can only be done if the broker knows the financial situation and investment goals of the client. The self-regulatory organization National Association of Stock Market Participants is working on a suitability rule for its members. However, since membership is voluntary, this rule will not apply to all market participants. The FFMS should make membership in self-regulatory organizations mandatory or else incorporate suitability rules in its regulations.

Special training should be established for those in financial institution who deal with retail customers. As a starting point, regulations (or legislation) should introduce the concept of those who work with the public and sell financial services to consumers. Then the financial supervisory agencies and professional associations should collaborate to set competency requirements for staff of financial institutions who work with retail customers. Currently in Russia, there is no specific competency requirement for staff in the banking, insurance and pensions sectors. In the securities sector, the law and regulations contain provisions on the qualifications that specific securities market professionals need to meet. However there is no requirement of competency exams for staff of financial petency standards should be improved. The Consumer Protection Service, the financial supervisory agencies and the professional industry associations should work together in order to establish and administer specific minimum competency requirements at least for any staff member of a financial institution that: (1) deals directly with consumers, (2) prepares any Key Fact Statement or any advertisement for the institution, (3) markets the financial institution’s services. In the insurance sector, the law should require that all insurance intermediaries have to pass qualification tests relevant to the complexity of the service being sold or offered. In the case of agents and for less complex financial services (such as motor insurance), the educational processes and subsequent tests could be given by the individual insurers. For more complex services (such as life insurance with a savings component), the educational requirements and tests could be the responsibility of the industry association or the FSIS.

Dispute Resolution Mechanisms

Financial consumers need a mechanism that works for them in resolving disputes with financial institutions. Consumers sit on the weak side of a power imbalance between themselves and the financial institution. The banker or insurer or asset manager all know their technical fields and have access to the resources of the financial contrast, the financial consumer may lack direct experience in using specific financial services and so may feel intimated by the officer of the financial institution. Consumers need a body that is clearly impartial and independent from the financial institution, the industry and the appointing authority, and is willing to defend the interests of the consumer in a dispute with a financial institution—and consumers need a mechanism that is fast, efficient and cost-effective in addressing their problems.

Consumers in Russia complain to six different types of institutions. Financial consumers submit complaints to any (or all) of several institutions: (1) the financial institution such as a bank, (2) the professional association, (3) the financial supervisory service, (4) the consumer protection service, (5) the office of the Presidential administration or (6) the prosecutor-general. The issue is complex. Under Government Orders (June 30, 2004 No. 322 and May 16, 2005 № 303) the authority of the CPS does not include consideration of consumer complaints regarding financial services. Similarly under Government Order January 17, 1992 № 2202-1, the office of the Public Prosecutor does not have authority to review complaints of financial consumers. However the 2006 Law on Procedures to Deal with Consumer Complaints[27] regulates the treatment by federal, regional and local government authorities of consumer complaints and requires that government agencies establish procedures to handle complaints from customers. Typically, consumers send their written complaints to the financial institution with a copy to the consumer protection service, the financial supervisory agency and the prosecutorial authorities.

None of the institutions is responsible for finding a solution to financial consumer disputes. The financial institution will review the complaint and see if the contract has been violated. The financial supervisory service will be interested in identifying trends in customer complaints that may hurt the institution’s public reputation but the service cannot intervene in a specific case. The Consumer Protection Service, the Presidential administration and the prosecutor’s office will initially refer all complaints to the financial supervisory service, which will again look for worrisome trends but not solve the problem. Only the Consumer Protection Service will take the position of the consumer and act as its advocate in a court of law. Between January and September 2008, 19 regional offices of the CPS have gone to court representing financial consumers in a total of 109 cases, of which 86 were resolved in favor of consumers. However in light of the number of complaints that are in fact inquiries or questions about facts, another approach may be helpful.

The existing system in Russia leads primarily to resolution through the courts. Small claims courts (known as “justices of the peace”) help resolve customer complaints but they are at risk of being overwhelmed by financial consumer cases. The federal system of small claims courts consists of over 2,500 state courts presided over by justices of the peace. These courts will review and decide over all formal claims submitted by consumers throughout Russia that are below 200 times the monthly minimum wage (RUB 2,300 effective from September 2007) which is less than $14,000. The Federal Courts of General Jurisdiction have exclusive jurisdiction over all such claims at or in excess of that sum. If the consumer cites the Law on the Protection of Consumers’ Rights when preparing the initial claim, all court costs are waived for the consumer. Decisions are generally made relatively quickly in a period of four to six months. Furthermore the court system in Russia is becoming increasingly transparent, with recent legislation providing the legislative framework for disclosure of court activity to the public and the media. [28]

Detailed statistics on financial consumer complaints are hard to obtain. The CPS does not publish detailed statistics on the number of complaints received of any type of financial service[29]. However the FFMS and FSIS publish analytical reports on the number of types of complaints. In 2007, the FSIS received over 17,000 complaints about insurance policies. Over 80 percent of complaints related to the amount of payment under the claim, and each of the complaints needs to be individually reviewed. The FFMS received 11,000 inquiries and complaints in 2007 (compared to 8,500 in 2006) of which about half were received in the central office of FFMS and half in the territorial offices and subordinated organizations of FFMS.[30] The CBR estimates that they receive over 200 complaints per month about retail banking services.

As financial services aimed at consumers continue to expand, the number of complaints is expected to increase dramatically. Furthermore as noted by the financial literacy survey conducted in June 2008 only three percent of dissatisfied customers pressed their claims with the financial supervisory agencies. Based on the experience of other countries (such as the United Kingdom and Ireland) where consumers have confidence that their claims would be resolved quickly and fairly, the number of complaints would be expected to increase by at least ten-fold.

International experience shows that most complaints reflect more inquiries than disputes. For example, a study conducted in 2006 in Romania regarding complaints over financial services found that many of them were in fact inquiries. However both disputes and inquiries provide valuable early warning signals to both the institution’s executive management and the supervisory service regarding possible future problems.

As a starting point, all financial institutions should be obliged to establish a specific procedure to deal with consumer complaints. Financial institutions should be required to: (1) have a written procedure for handling consumer complaints and include a summary of this procedure in the bank’s general terms and conditions that are part of any agreement with customers; (2) provide the customer with the detailed information of the department or person appointed by the bank to deal with the complaint; (3) provide the complainant with a regular written update on the progress of the investigation of the complaint; (4) inform the customer in writing of the outcome of the investigation within a maximum number of days; (5) explain in simple terms the nature of any offer of settlement made to the customer; (6) offer to treat any verbal complaint as a written complaint; (7) maintain up-to-date records of all complaints received, including information of the nature of the complaint, copies of the bank’s responses and other relevant documents, information of the action taken to resolve the complaint and whether resolution was achieved and on what basis; (8) make these records available for review by the competent authorities.

In addition at a minimum, a central location should be established to collect, record, redirect and publish statistics on complaints related to financial services. The central service should receive all financial service complaints and pass them on to the financial institution or supervisory service. However the central service should also follow up on complaints to ensure that each complaint is addressed. In addition, the central service should publish aggregate statistics on the number of complaints received each month (or for the year) and what happened to the complaints—whether they resulted in a payment by the financial institution or were referred to the courts, and of those complaints that went into litigation, the number resolved in favor of the consumer and the number in favor of the financial institution.

It may be helpful to go a step further and authorize the central complaints service to make decisions on small cases. In well-developed financial markets, most disputes regarding financial services are over relatively small amounts of money of under $5,000. Analysis of complaints would determine if the same were true in Russia. Such small amounts are troublesome for the financial institution but important for maintaining public confidence in the financial sector. The experience of the several European countries, notably the United Kingdom, Ireland and Germany, is that an ombudsman can efficiently deal with the small cases. This reduces the burden on the financial institution, the supervisory agency and avoids an unnecessary lawsuit.

Two options are available—an ombudsman established under the professional associations or an independent ombudsman established by legislation. One of the banking associations is considering the option of an ombudsman established under the professional association. However one of the issues for association-based ombudsmen is that they lack public credibility, particularly where the legal system is not fully developed and refined. Most consumers might think that the ombudsman represented the interests of the financial institutions (such as banks) that covered the costs of the ombudsman. The alternative approach of an independent statutory ombudsman might have the advantage of maintaining public confidence. One of the key issues is the stable funding source for the ombudsman’s work. However regardless of the type of ombudsman, it is likely that the final cost will be paid by financial consumers. It may therefore be useful to conduct a cost-benefit study of the different options for an ombudsman as part of the discussion about whether or not to establish an ombudsman.

A two-stage strategy may be the best approach. As a first step, a professional ombudsman should be established for an entire segment of the financial system. For example, clients of banks of the two associations—Association of Regional Banks of Russia and Association of Russian Banks—plus clients of the few banks that are members of neither association would have an ombudsman established whereby consumers could present complaints and inquiries. The easiest and most efficient model might be that of the Ombudsman Scheme of the Private Commercial Banks of Germany, which provides services for customers of the German private commercial banks only, excluding savings banks, cooperative banks and public sector banks. The Ombudsman Scheme consists of five ombudsmen who had previously served in the Courts or in the Ministry of Justice. Their decisions are binding on the banks for amounts up to Ђ5,000 although the consumer retains the right to appeal to the courts. The service is paid by the banks but is free to retail consumers. The ombudsman maintains his reputation as being impartial (and not protecting the interests solely of the banks) by requiring that the consumers union approve the selection of the ombudsman for each case. An ombudsman under a professional association can be established quickly and easily and would not require government funding, while providing a useful third-party review of cases by retail consumers.

However the most effective long-term solution would be to create a statutory financial ombudsman—or perhaps a Commission on Protecting Financial Consumer Rights. While the experience of Germany demonstrates the valuable role of an ombudsman under the professional association, the history in the United Kingdom, Ireland, Canada and Sweden suggest the need for a full-time office of financial ombudsman established by law and standing independently of financial institutions. Rather than looking at each complaint on a case-by-case basis, a statutory financial ombudsman can look at complaints that reflect systemic issues. However three key issues will need to worked out: (1) how complaints will be submitted to the ombudsman or Commission, (2) what dispute resolution mechanisms will be put in place and (3) how the ombudsman or Commission will be funded.